These days the investing world seems split between two types of market participants: the believers and the skeptics.

Firmly among the believers are investors in equity markets, which have rebounded sharply from their sell-off in late 2018, supported by a dovish pivot by the Federal Reserve, hopes of a trade-war truce between the U.S. and China, and the U.S. government going back to work. Yet this rally, with the S&P 500 up almost 20% since the low on December 24, has occurred even as companies’ 2019 earnings have been revised markedly lower.

Moreover, while the equity market has rallied so far in 2019 (see Figure 1), U.S. Treasury yields have declined, reflecting a skeptical view. Equities have tended to benefit from falling yields increasing the present value of future cash flows. Bond markets, however, have started to price a Fed rate cut within the next 12 months, suggesting many investors see a downturn or recession in the foreseeable future. And a recession isn’t good news for equity markets: Historically, the U.S. stock market (S&P 500) has fallen an average of 27% (peak to trough) during recessions.1

Equities vs. Bonds? Look to China for Clues

Recent data releases bolster the cautious economic outlook: They indicate the global economy is slowing meaningfully, and many global growth forecasts have been revised downward as well. This is not surprising to us as we’ve expected a growing-but-slowing global economy for some time (see PIMCO’s December 2018 Cyclical Outlook, “Synching Lower,” and May 2018 Secular Outlook,Rude Awakenings”).

As one looks forward, what are markets telling us? This is where market participants differ. The recovery in stocks suggests some have already bought into better days ahead, while fixed income markets suggest others remain skeptical.